How to Plan for Medical Expenses in Retirement

Medical expenses can be a major cost in retirement and if you haven’t planned for them, you might be in for a rude awakening. According to Fidelity, the average total medical expenses for a 65-year-old retiring in 2024 are estimated at $165,000.

That number may seem daunting, but with the right budgeting and planning, it doesn’t have to be.

Budgeting For Healthcare Expenses

Carolyn McClanahan, CFP and founder of Life Planning Partners, advises against budgeting for medical expenses by focusing on one large lump-sum number. She instead advises that people evaluate their cash flow on a yearly basis.

“It’s important for clients to understand what their healthcare mindset is and then to do a financial plan to incorporate that spending and extrapolate that spending out, said McClanahan.

What this could mean for retirees is budgeting money for insurance premiums and then making a rough estimate of what their out-of-pocket expenses will be based on their healthcare needs, as the cost monthly premiums for Medicare are typically released before the year begins.

Those with chronic conditions who need regular medical care may have to allocate more for out-of-pocket expenses while healthy retirees who only visit the doctor sporadically may set aside less money. Additionally, out-of-pocket expenses may be lower earlier in retirement when you’re healthier and tick up as you get older.

And it may not help to look at the average total cost of medical expenses when budgeting.

“We don’t think that looking at averages is very useful when we’re looking at healthcare costs. The average costs are driven by a small group of people who are sick and need a lot of care,” Sudipto Banerjee, vice president of Retirement Thought Leadership at T. Rowe Price, told Investopedia in a 2024 interview.

A T. Rowe Price estimate found that half of retirees who rely on Medicare Part A, B, and D would spend $700 or less on annual out-of-pocket medical costs, excluding the expense of premiums. Just 10% of retirees spent a whopping $5,100 or more annually.

Health Savings Accounts

For those who are enrolled in high deductible healthcare plans (HDHP) and are still working, health savings accounts (HSAs) can be a great option for covering medical expenses. HSAs offer a triple tax benefit: contributions are tax-deductible, money grows tax-free, and funds can be used tax-free for qualified medical expenses.

“One of the biggest mistakes that people make is that they don’t they don’t invest any money in their HSA and leave it in cash,” said Monica Dwyer, a VP wealth advisor at Harvest Financial Advisors.

One strategy is to delay reimbursement. Instead of using your HSA to pay for current medical expenses, you pay out-of-pocket and let your HSA funds grow tax-free. As long as you save your receipts and are diligent about record-keeping, you can reimburse yourself for those expenses in the future.

“Another big mistake is that even if people can afford to pay for their expenses out-of-pocket, they take it out of their HSA,” said Dwyer. “These accounts are really meant to give you an opportunity to invest so that you can outpace inflation, especially that higher inflation on healthcare.”

Understanding Medicare

Retirees in the U.S. can expect to rely on Medicare, a federal program available to those age 65 or older, for health insurance coverage. There are four parts to Medicare: Part A, B, C, and D. Original Medicare is composed of Part A and B.

• Part A is considered hospital insurance and typically has $0 premiums if you’ve worked for at least 10 years and paid Medicare taxes while working.
• Part B is medical insurance, which provides coverage for medical services like preventative care, outpatient care, medically necessary services, and more.

Medicare Part B premiums are dependent on your income and when you enroll.

It’s important to sign up for Medicare as soon as you’re eligible because when you sign up late, you could incur a late enrollment penalty. This penalty is not just a one-time fee and can be pricey. It can apply to Medicare Part A, B, and D.

For every year you don’t sign up for Medicare but could have, your monthly premiums will cost 10% more. This penalty, however, generally doesn’t apply if you’re still working and are covered by a health insurance plan through your job.

Unlike traditional health insurance, original Medicare (Parts A & B) has no out-of-pocket maximum, meaning retirees can face unlimited costs.

That’s where Medicare Part C, also known as Medicare Advantage, comes in.

These plans are offered by private companies and bundle together Parts A and B, and sometimes, D. With a Medicare Advantage plan, your premiums are typically higher (you pay the Medicare Part B premium and a specific plan premium), but there’s an out-of-pocket maximum on Part A and B services, so you won’t pay an unlimited amount.

However, these plans also have rules that can limit your access to care—plans may only cover services provided within their network of doctors or providers and require referrals before you can see specialists.

Lastly, Medicare Part D is considered supplemental coverage. It helps cover prescription drug costs. Premiums are based on your income and when you sign up—the cost of your monthly premium will go up 1% for every month you’re eligible for it but don’t enroll.

Planning for Long-Term Care

Medicare typically doesn’t cover long-term care costs. You’ll want to evaluate factors like your risk tolerance, current health status, what type of long-term care you’d want, family medical history, and more.

With long-term care, people can either choose to self-fund by directly paying for costs or rely on long-term care insurance. Long-term care premiums generally rise as you get older, but if you enroll in a plan while you’re younger, you could be paying premiums for decades.

That’s why it’s important to evaluate whether you want to purchase long-term care insurance well before you’re ready to retire.

The Bottom Line

Healthcare inflation typically outpaces general inflation, so it’s important to have a plan for how you’ll tackle medical and potential long-term care expenses in retirement. While looking at averages can be useful to get an idea of how much people are spending on healthcare in retirement, it’s important to first understand your healthcare needs and how much your Medicare premiums will cost.

After you’ve budgeted for your fixed expenses like your premiums, try to estimate how much your out-of-pocket expenses will be. Plus, don’t discount the power of an HSA. If you’re still working, consider not only putting money in an HSA but investing it too.

And when the time comes for you to quit your job and enroll in Medicare Parts A, B, and D, pay close attention to the enrollment dates—signing up later could mean paying a higher monthly premium for as long as you have Medicare.